Thursday, February 7, 2013

We're shocked! Shocked!

Commodity price shocks are frequently considered among the most important potential threats to the global economy. However, since the second half of the 1980s, energy prices have experienced very large changes, with arguably limited effects on global GDP developments. This column presents evidence that oil shocks just aren’t what they used to be when it comes to macroeconomic effects.

Why that reversal of fortunes?

...there are signs that the global economy is more resilient (albeit certainly not immune) to commodity-price shocks than normally thought. This result finds support in both correlations and regression analysis, and had already been observed in several earlier works looking at the oil-price elasticities of GDP. Also, this is a conclusion that holds true for both developed and developing regions, and also broadly among different developing regions.

It is not the aim of this piece to look at reasons behind the correlation patterns, but some intuitively come to mind. One could be the greater commodity efficiency since the 1970s, or more robust policy frameworks and responses, such as greater central bank independence and inflation-fighting capacities (Bernanke et al, 1997), floating exchange rates, or sovereign wealth funds and fiscal rules. Additionally, a more geographically diversified and abundant set of sources for energy commodities, with the 'shale' oil and gas revolution, could be behind the changes in correlations.

Finally, and given the importance of developing economies for global growth, it should be pointed out that, while they are still converging to developed-country income levels, which implies that their growth process could become more commodity-intensive in some areas, they are also to experience this process with new technologies that are less commodity-intensive than those used by developed economies when they were at a similar level of development. Additionally, as development implies a convergence to an economic structure more concentrated on services and with less need of infrastructure investment, their sheer additional demand for commodities will abate. On balance, those forces combined may result in an even smaller sensitivity to commodity shocks.